Morning Report: James Bullard spooks the markets

Vital Statistics:

S&P futures3,918-49.25
Oil (WTI)83.97-1.62
10 year government bond yield 3.77%
30 year fixed rate mortgage 6.59%

Stocks are lower this morning after hawkish comments from St. Louis Fed President James Bullard. Bonds and MBS are down.

St. Louis Fed President James Bullard gave a speech which suggested that a “sufficiently restrictive” Fed Funds rate would need to be somewhere between 5% and 7%. The chart that freaked out the markets is below:

Bullard is basing this recommended policy rate on the Taylor Rule, which is a formula that calculates the ideal Fed Funds rate based on inputs such as the real interest rate, inflation, and the output gap. The punch line is that based on the current situation the Fed Funds rate should be at least 5%.

The stock and bond rally of the past week has been driven by hopes the Fed is set to pivot to looser monetary policy, and it is reversing on this speech. Note we will get Neel Kashkari (noted hawk) speaking this morning as well.

Housing starts came fell 4.2% MOM and 8.8% YOY to a seasonally-adjusted annual rate of 1.42 million. Building Permits fell to 1.53 million. Separately, the MBA reported that mortgage applications for new homes decreased 28.6% from a year ago. This number is not seasonally adjusted, so that factor is playing a part here, however mortgage rates above 7% is the primary driver.

Interestingly, the average loan size fell to $400,616 which is a function of slower home price growth and declining interest in higher-priced homes. It doesn’t look like average selling prices for the builders are declining yet, and the barometer of luxury homes – Toll Brothers – has an October FY, so we won’t hear from them until early December.

The increase in mortgage rates means some potential homebuyers can no longer afford to buy a house they ordered a year ago. This is causing people to lose any sort of deposit they put down. This is happening even if the builder ends up selling the property to a different borrower at a higher price.

Just under 2 million mortgages were originated in the 3rd quarter of 2o22, according to data from ATTOM. This is down 19% from the second quarter and 47% from a year ago. The 47% decline was the largest in 21 years. “There are no surprises in this quarter’s loan origination numbers, as the unprecedented jump in mortgage rates has battered both the purchase and refinance markets,” said Rick Sharga, executive vice president of market intelligence at ATTOM. “Prospective homebuyers have been priced out of the market by the combination of 7 percent mortgage rates and higher home prices. And refinance activity will probably continue to decline, since the majority of homeowners have loans with sub-4 percent interest rates.”

Morning Report: The typical homebuyer needs to make $107k to afford the median home

Vital Statistics:

S&P futures3,982-16.25
Oil (WTI)85.21-1.72
10 year government bond yield 3.72%
30 year fixed rate mortgage 6.62%

Stocks are lower this morning on no real news. Bonds and MBS are up

Retail Sales surprised to the upside in October, rising 1.3% month-over-month and 8.35 year-over-year. The Street was looking for a 1% increase. Ex-vehicles and gas, sales rose 0.9%. These numbers are nominal (not inflation-adjusted), so the year-over-year increases are more or less flat.

Mortgage applications rose for the first time in 2 months last week as rates fell. Overall applications increased by 2.7% as purchases rose 4% and refis fell 2%. The refi index is 88% lower than it was a year ago. The purchase index is 46% lower than a year ago. “Mortgage rates decreased last week as signs of slower inflation pushed Treasury yields lower,” said Joel Kan, MBA Vice President and Deputy Chief Economist. “The 30-year fixed rate saw the largest single-week decline since July, dropping to 6.9 percent. Application activity, adjusted to account for the Veterans Day holiday, increased in response to the drop in rates – driven by a 4 percent rise in home purchase applications. Purchase applications increased for all loan types, and the average purchase loan dipped to its smallest amount since January 2021. Refinance activity remained depressed, down 88 percent over the year. There is very little refinance incentive with rates so much higher than last year.”

Housing affordability has declined over the past year, and the typical homebuyer needs to make six figures to afford the typical home, according to a study from Redfin.

The median household income in the US is $70,784 which means most households are shut out of the purchase market. Some of the hottest markets like San Francisco now require a salary over $400k.

People selling out of expensive California MSAs have pushed up prices in places like Boise or other Western MSAs. As homes in California become harder to sell (just less potential buyers) there are less out-of-MSA buyers in these places, and home prices are re-adjusting to what the locals can afford.

Homebuilder sentiment fell again, according to the NAHB Housing Market Index. “Higher interest rates have significantly weakened demand for new homes as buyer traffic is becoming increasingly scarce,” said NAHB Chairman Jerry Konter, a home builder and developer from Savannah, Ga. “With the housing sector in a recession, the Biden administration and new Congress must turn their focus to policies that lower the cost of building and allow the nation’s home builders to expand housing production.”

The current reading of 33 is the lowest since mid-2012, when the post-bubble housing market was bottoming.

Morning Report: Inflation at the wholesale level comes in lower than expected

Vital Statistics:

S&P futures4,00741.25
Oil (WTI)84.98-0.88
10 year government bond yield 3.78%
30 year fixed rate mortgage 6.70%

Stocks are higher this morning on optimism about talks between the US and China. Bonds and MBS are up.

More good news on inflation: The producer price index rose 0.2% in October, which was well below Street expectations and flat compared to September. On a year-over-year basis, prices are up 8%, which was lower than expectations. If you strip out food and energy, the index rose 0.2% month-over-month and 5.4% YOY.

The PPI is a wholesale price index, which is a step removed from what consumers see. Regardless, this is good news for the economy overall and indicates the Fed is gaining traction on the inflation front.

Housing will continue to be a contributor to headline inflation, at least for a while. “As the housing market cools, this category will also ease but we may have to wait until next year before it meaningfully dampens headline inflation,” said Jeffrey Roach, chief economist for LPL Financial.

Interesting tidbit on housing – Warren Buffett’s Berkshire Hathaway initiated a position in building products manufacturer Louisiana Pacific. Historically housing has led the economy out of a recession, although it has been sluggish after the Great Recession.

Separately, the Home Despot reported better-than-expected sales, although the number of transactions declined.

Lael Brainard said yesterday that it would soon be appropriate to slow the pace of rate hikes. “I think it will probably be appropriate soon to move to a slower pace of increases, but I think what’s really important to emphasize is… we have additional work to do,” Brainard said in an interview with Bloomberg in Washington. It’s really going to be an exercise on watching the data carefully and trying to assess how much restraint there is and how much additional restraint is going to be necessary, and sustained for how long, and those are the kinds of judgments that lie ahead for us,” she said.

This statement comports with the December Fed Funds futures, which are showing a 85% chance of a 50 basis point hike next month. After that, it looks like we might get another 25 basis points in early 2023 and then the Fed will stand pat for a while.

Morning Report: The Chinese government takes steps to support the economy

Vital Statistics:

S&P futures3,990-10.25
Oil (WTI)87.90-1.03
10 year government bond yield 3.87%
30 year fixed rate mortgage 6.73%

Stocks are lower this morning on no real news. Bonds and MBS are down.

The upcoming week won’t have much in the way of market-moving data, although the Producer Price Index on Tuesday could have an impact if it comes in wildly out of expectations. We will get a lot of housing data with the NAHB Homebuilder Sentiment Index, Housing starts and existing home sales. We will also have a lot of Fed-speak, and uber-hawk Neel Kashkari will be speaking on Thursday.

Mortgage delinquency rates fell to a seasonally-adjusted rate of 3.45%, according to the MBA. This is the lowest level since the survey’s inception which goes back to the 1970s. Much of the decline was in the 90-day bucket, where they fell 22 basis points to 1.27%.

“For the second quarter in a row, the mortgage delinquency rate fell to its lowest level since MBA’s survey began in 1979,” said Marina Walsh, CMB, MBA Vice President of Industry Analysis. “Foreclosure starts and loans in the process of foreclosure also dropped in the third quarter to levels further below their historical averages. The relatively small number of seriously delinquent homeowners are working with their mortgage servicers to find foreclosure alternatives, including loan workouts that allow for home retention.”

The Chinese government instituted a 16 point plan to shore up the real estate market. The government is hoping for a soft landing, however a country that has entire cities built on spec probably won’t have one. The situation in China affects the US a couple of ways. First, I would bet that some of the weakness in West Coast markets like San Francisco and Seattle is due to Chinese liquidating assets. Remember, in a crisis, you sell what you can, not necessarily what you want. Real estate accounts for about a third of the Chinese economy, which is bubble territory. In the US, real estate accounts for about 16%.

The Chinese crisis will also impact global demand as the main effect of a burst real estate bubble is a collapse in domestic demand. This will reduce demand for all sorts of commodities which will help quell global inflation. This should also cause a flight to quality in China which means they will be buying Treasuries. This means lower interest rates in the US.

Angel Oak Home Loans is exiting the retail lending business and selling its brick and mortar operations to Cross Country Mortgage. It will focus on non-QM going forward. “Angel Oak intends to focus on the Non-QM residential mortgage sector through its wholesale and correspondent channels,” the company’s statement continued. “The transaction has zero impact on the wholesale Non-QM originator Angel Oak Mortgage Solutions, Angel Oak Correspondent Lending, or any other Angel Oak affiliates.”

Morning Report: Consumer sentiment dives in November

Vital Statistics:

S&P futures3,98120.00
Oil (WTI)89.493.03
10 year government bond yield 3.81%
30 year fixed rate mortgage 6.73%

Stocks are higher on follow-through after yesterday’s inflation print. Bonds and MBS are closed for the Veteran’s Day holiday.

Yesterday’s lower-than-expected consumer price index ignited a powerful rally in stocks and bonds yesterday. Now that we have had a day to settle in, let’s take a look at the Fed Funds futures.

The December 2022 FF futures now see a 85% chance of a 50 basis point hike and a 15% chance of a 75 basis point hike. If we hike 50 basis points, then the Fed Funds target rate will be between 4.25% and 4.5%. The December 2023 Fed Funds futures have a wide range of possibilities, however the central tendency is for the final Fed Funds rate to be between 4.25% and 4.5%. The second most common bet is between 4.5% and 4.75%.

Assuming these forecasts are correct, it would mean that the Fed should signal that its dramatic series of rate hikes is finished, and it will wait to see how the data shakes out. We will get one more PCE report and one more CPI report before the December meeting.

Mortgage related stocks were elated on the news yesterday. Mortgage REITs like Annaly Capital jumped 10%. AGNC Investment rose by a similar amount. Originators like Rocket rose 11%. Don’t forget that MBS spreads are extremely wide compared to historical levels. MBS spreads have been pushing 2%, while the historical norm has been around 80 basis points. This means that if the 10 year stays here, at say 3.8%, and MBS spreads return to normal, that would mean mortgage rates can fall another 100 basis points from here, which would imply a sub 6% mortgage rate.

A sub 6% mortgage rate probably won’t move the needle on the refi market, but it will do a lot on the affordability front. That said, there is a psychological anchoring effect going on, where people remember rates above 7% and will think a rate with a 5% handle is low. Given that HELOCs are still not being offered by a lot of big lenders, the cash-out debt consolidation loan could become in vogue again.

While there is lots of talk about a potential recession, the Atlanta Fed’s GDP Now forecast sees 4% growth in the fourth quarter. This would be extremely rapid growth, however it seems out of step with other forecasts.

This seems surprising given that we are seeing layoff announcements from companies like CH Robinson, which is a logistics company that is sort of a barometer of overall growth. Amazon is looking at cutting costs, which seems strange given that we are heading into the holiday shopping season. I am wondering if the Atlanta Fed is getting some sort of strange reading based on the dollar or inventory build and this will get revised downward later.

Consumer sentiment fell in November, according to the University of Michigan Consumer Sentiment Index. Sentiment for durable goods fell pretty dramatically. Inflationary expectations were unchanged, which is good news for the market, with short run expectations coming in around 5% and longer-term expectations at 3%. Sentiment fell 8.7% compared to October and 19% from a year ago. This is yet another data point that doesn’t square with the Atlanta Fed forecast.

Morning Report: Finally some good news on inflation

Vital Statistics:

S&P futures3,873118.00
Oil (WTI)86.220.31
10 year government bond yield 3.94%
30 year fixed rate mortgage 7.10%

Stocks are higher this morning after the consumer price index came in lower than expected. Bonds and MBS are up.

The consumer price index rose 0.4% MOM in October, according to the Bureau of Labor Statistics. On an annual basis prices rose 7.7%. The core rate of inflation (stripping out food and energy) rose 0.3% MOM and 6.3% YOY.

About half of the increase in CPI was due to shelter. Insurance, new vehicles and recreation were also contributors on the plus side. Used cars, medical care, airline fares and apparel were negative contributors. The year-over-year increase in the headline number was the lowest since January 2022.

It does look like we are beginning to trend downward in the overall month-over-month changes which is good news. Of course one data point isn’t going to change the Fed’s thinking all that much, but I suspect this puts to rest the steady diet of 75 basis point increases in the Fed Funds rate.

The initial reaction in the Fed Funds futures market is to increase the chances of a 50 basis point hike next month to 80% versus 58% yesterday.

The December 2023 Fed Funds futures are now circling around an end of year Fed Funds rate of 4.5% – 4.75%. This would mean that maybe we get 50 basis points next month, and then another 25 in early 2023. The thing I wonder about is shelter, since it can be persistent. If we look into next year and most inflation is back to normal with the exception of shelter, does the Fed still maintain a tight policy stance? Much of the shelter component is owner-equivalent rent which isn’t a “cost” in that it isn’t something you write a check for, at least if you are a homeowner. It is more or less an abstract concept.

The inflation print caused the 10 year bond yield to drop about 20 basis points, and put about 100 points on the S&P 500 futures. I wonder if the bond market reaction was due to a lot of people leaning short after the lousy 10 year auction yesterday. We will have some Fed-speak later this morning (luckily not Neel Kashkari) so it will be interesting to hear what Mary Daly says about the CPI reading. Don’t forget the bond market is closed tomorrow.

Initial jobless claims rose to 225k last week. So far, the labor market is holding up, notwithstanding the parade of job cuts in the real estate industry.

Redfin has closed down its home flipping unit and laid off 13% of its staff. Both Opendoor and Zillow have struggled to make money monetizing their proprietary real estate valuation models by making bets in the real estate market. It is a capital-intensive business, and I suspect the special sauce is not the gee-whiz cool valuation models, but blocking and tackling – managing properties, doing fixes, and moving the merchandise. Don’t forget that rising rates have increased the carrying cost of these properties as well. Redfin hopes to liquidate its portfolio by the end of the year.

Morning Report: More pain in the real estate sector

Vital Statistics:

S&P futures3,816-19.00
Oil (WTI)87.80-1.12
10 year government bond yield 4.17%
30 year fixed rate mortgage 7.15%

Stocks are lower this morning on no real news. Bonds and MBS are down small.

Mortgage applications fell 0.1% last week as purchases rose 1% and refis fell 4%. “Mortgage rates edged higher last week following news that the Federal Reserve will continue raising short-term rates to combat high inflation,” said Joel Kan, MBA Vice President and Deputy Chief Economist. “The 30-year fixed rate remained above 7 percent for the third consecutive week, with increases for most loan types. Purchase applications increased for the first time after six weeks of declines but remained close to 2015 lows, as homebuyers remained sidelined by higher rates and ongoing economic uncertainty. Refinances continued to fall, with the index hitting its lowest level since August 2000.”

As refinances fade into the background, I suspect the seasonality of the mortgage business is going to become a lot more pronounced.

Stamford Connecticut based Luxury mortgage is pausing originations while it looks for a new partner. Starwood was in a deal to purchase the Connecticut lender however there have been reports that Starwood backed out of the deal.

Loan Depot reported earnings yesterday, narrowing is losses as it exits the wholesale business. The company also announced the launch of its digital HELOC program, which it hopes will drive earnings in 2023. As of now, the company is firmly in expense reduction mode.

Mortgage banks aren’t the only ones getting slammed these days. Fintech, which was once the darling of the stock market, is getting hit too. Redfin has sunk to fresh lows after Opco downgraded the stock and said its business model is “fundamentally flawed.” “We believe that Redfin’s business is fundamentally flawed, as the company continues to use a fixed-cost model for agents,” the analyst writes. “This prevents the company from optimizing margins when the housing markets decline and limits share gains when markets rebound.” 

Opendoor and Zillow are also announcing big layoffs.

Morning Report: Home Purchas Sentiment Falls

Vital Statistics:

S&P futures3,82814.00
Oil (WTI)91.620.12
10 year government bond yield 4.19%
30 year fixed rate mortgage 7.15%

Stocks are higher this morning on no real news. Bonds and MBS are flat.

Small Business Optimism declined again, according to the NFIB Small Business Optimism Index. Inflation and a tight labor market remain the biggest issues. The number of businesses reporting inflation is back to levels last seen in the late 1970s. Labor shortages are particularly acute in transportation, construction and manufacturing.

A net 50% of companies reported raising prices. Retailers and wholesalers most widely reported raising prices. “The frequency of reported price increases was highest in the retail trades, 69%, followed by 64% in wholesale, and 61% in construction. The other industry groups averaged about 50% raising prices, with the exception of professional services at 20%. Clearly, consumers are being confronted with inflation in every aspect of their lives. So far, inflation has been resistant to the impact of higher interest rates. If the Fed were a “fiscal” arm of government, it could just raise taxes on everyone for a short period of time to slow spending. But it can’t and must rely on the tenuous link between interest rates and spending. Major expenditures by consumers can be impacted (cars, houses, boats, etc.), a slow, erratic process. Firms are more directly impacted as the cost of loans (capital) rises, making more and more investment outlays unprofitable and thus impacting employment and income in affected sectors.”

The part about the cost of capital is important, because in a labor-constrained environment, investing in productivity-enhancing technology could help alleviate this issue. Productivity has been lousy, and low productivity has always been a driver of inflation. As borrowing costs rise, the rate of return on these investments has to rise as well, or else it isn’t worth doing.

Fannie Mae reported third quarter earnings this morning. Acquisition volume was down 32% to $117.7 billion. Purchase volume fell 17% while refi volume declined 58%. On the purchase side, about 45% were first time homebuyers. Delinquencies fell again to 0.69% as more borrowers exited forbearance.

Fannie Mae’s Home Purchase Sentiment Index hit an all-time low in October. The index only goes back to 2011, so it doesn’t capture the depths of the Great Recession. “The HPSI reached an all-time survey low this month, in line with expectations that the housing market will continue to cool in the months ahead,” said Doug Duncan, Fannie Mae Senior Vice President and Chief Economist. “Consumers are increasingly pessimistic about both homebuying and home-selling conditions. Amid persistently high home prices and unfavorable mortgage rates, the ‘bad time to buy’ component increased to a new survey high this month, while the ‘good time to sell’ component continued its downward trend. Consumers also remain concerned about the movement of home prices – expectations that prices will decrease reached a new survey high, particularly among homeowners – offering further support to our forecast of home price declines in 2023. As continued affordability constraints reduce homebuyer demand, and homeowners become reluctant to sell at potentially reduced prices, we expect home sales to slow even further in the coming months, consistent with our forecast.”

Fannie Mae sees future declines in home prices and sales in the coming months. With refinances out of the picture, seasonality is going to have a bigger impact on origination volumes. We have a few months to go until the Spring Selling Season kicks off, which is usually around the time of the Super Bowl.

Morning Report: Home prices and rental payment lags

Vital Statistics:

S&P futures3,79414.50
Oil (WTI)92.590.02
10 year government bond yield 4.17%
30 year fixed rate mortgage 7.14%

Stocks are higher this morning despite some disappointing news from some tech leaders like Meta and Apple. Bonds and MBS are down small.

The upcoming week will be dominated by the CPI print on Thursday. The Street is looking for a 0.7% MOM / 8% YOY on the headline number and 0.5% MOM / 6.6% on the CPI ex-food and energy. We will also get some Fed speak.

Midterm elections are on Tuesday, however I don’t see them as a market-moving event. Right now the story is all about the Fed.

Banks will be closed on Friday for the Veterans Day holiday.

Home prices fell 0.52% in September, according to Black Knight. This is of course pushing down home equity, which will probably have a negative effect on consumption going forward.

Underwater homes are a risk for those who bought at the top of the pandemic-driven peak (late 21 / early 22). That said, the number of underwater / under-equity properties is well below pre-pandemic levels. Black Knight estimates that roughly 3.6% of the 53MM mortgages outstanding in the US have 10% equity or less. Overall equity is still about $5 trillion above pre-pandemic levels, which works out to an average gain of $92,000 over that period.

With rising rates, the median monthly payment on a mortgage has risen $558, or about 40% since the beginning of the year. The MBA’s mortgage payment to rent ratio has been on a tear since rates began rising.

If you look at this chart, the natural conclusion would be that the first time homebuyer should rent because that is a better deal. Here is why that isn’t the case. Rents tend to lag home prices by about 21 months. Landlords reset the rent for an apartment upon renewal, however the big chunks happen when the tenant moves and the apartment gets set to market rents. So if home prices rise for a year, rent stays the same until the lease expires. Time lags explain this chart.

Note that for a first time homebuyer, the monthly payment on a fixed rate mortgage will stay the same for the term of the loan. Plus the first time homebuyer can deduct taxes. While this chart seems to imply that renting is more economical than buying, I personally think that is penny wise and pound foolish.

Morning Report: A slew of mortgage banking earnings

Vital Statistics:

S&P futures3,73049.75
Oil (WTI)92.314.02
10 year government bond yield 4.12%
30 year fixed rate mortgage 7.14%

Stocks are higher after the jobs report. Bonds and MBS are up.

The economy added 261,000 jobs in October, which is more or less what we added in September. The unemployment rate ticked up to 3.7% from 3.5%, an indication that the Fed’s tightening is beginning to have some effect on the labor market. The labor force participation rate ticked down to 62.2%. Average hourly earnings rose 0.4% MOM and 4.7% YOY.

Rocket reported third quarter numbers. Volumes were down again – 26% QOQ and 71% YOY – to $25.6 billion. Gain on sale and earnings were again supported by servicing. The company is guiding for volume to slow again in Q4 (though seasonality is playing a part) to a range of $17 to $22 billion.

UWM reported third quarter earnings. Volumes increased from $29.9 billion to $33.5 billion. Gain on sale margins fell from 99 bps to 52 bps, but net income rose QOQ.

Guild Holdings reported Q3 numbers. In-house origination volumes were down 23% QOQ, however net income increased. Gain on sale margins were flat.

Freddie Mac is adjusting the way it calculates rates in its Primary Mortgage Market Survey. Freddie believes that its methodology contains sampling bias and it is working to fix that. FWIW, Freddie’s PMMS numbers have been a sticking point with borrowers and loan officers: “Freddie says rates are X% and we aren’t offering anything close to that!”

It sounds like Freddie will be using loan application data going forward instead of a survey. The biggest impact will be that points and fees will no longer be included in the rate data.

For those wondering, in the Morning Report, I use data from Optimal Blue to get the prevailing mortgage rate.

TIAA is getting out of the banking business. It will be selling TIAA Bank (which used to be known as Everbank) to a consortium of private equity funds and Bayview. The new name will be revealed soon.

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